Can U.S. Expats in Treaty Countries Avoid the FBAR?

Can U.S. Expats in Treaty Countries Avoid the FBAR?

Can You Elect to Not File FBAR, Avoiding Misinformation

The FBAR is used to report foreign bank and financial accounts to the U.S. government. Technically, the FBAR is filed electronically on FinCEN form 114. There are many twists and turns when it comes to following the FBAR, and we have several free online resources to assist taxpayers with general questions about how to file their FBAR, which foreign accounts are reported on the FBAR, what is the due date for FBAR filing — and most importantly, what can taxpayers do to mitigate or resolve foreign account penalties for failure to comply with IRS‘ foreign account reporting. Recently, there has been some misinformation, making it seem like a taxpayer can simply elect not to file the FBAR, but is that true?

Distinguishing Between 6013(g) from Treaty

First, it is important to distinguish between making a 6013(g) election and making a treaty election. Generally, a non-resident alien who makes a 6013(g) election to file a tax return as a U.S. person is not considered a U.S. person for FBAR purposes. That is not the same as when a US person lives in a treaty country and makes a treaty election to be treated as a non-resident alien (NRA) for U.S. tax purposes. For this article, we are focusing on the latter — a U.S. person making a treaty election to be treated as a non-U.S. person for tax purposes and how that impacts FBAR filing.

First, What is a Treaty Election to be Treated as an NRA?

Technically, a person does not ‘elect’ not to file the FBAR. Rather, some US persons who live overseas in a treaty country may qualify under that treaty to be treated as a foreign person for tax purposes (NRA, non-resident alien). This means that the taxpayer is only taxed on their U.S.-sourced income and not their worldwide income. In other words, it is not a separate election to avoid FBAR; it is an overall election to be treated as an NRA, in general, for US tax purposes.

What About IRS Foreign Tax Forms?

The IRS takes the position that even if a taxpayer lives overseas and made a treaty election to be treated as a non-US person for tax purposes, they are still required to file all of the international information reporting forms, such as Form 5471 and Form 3520.

But the FBAR is not a tax form —

Is the FBAR still Required if Taxpayers Make an Election

The IRS takes the position that the taxpayer is still required to file the FBAR even if they live overseas and make a treaty election to be treated as a non-US person for tax purposes. The IRS’s position is clearly stated in Publication 5569:

• • • Publication 5569 Example: “Kyle is a permanent legal resident of the U.S. Kyle is a citizen of the United Kingdom. Under a tax treaty, Kyle is a tax resident of the United Kingdom and elects to be taxed as a resident of the United Kingdom. Kyle is a U.S. person for FBAR purposes. Tax treaties with the U.S. do not affect FBAR filing obligations.”

The Case of Aroeste

In the District Court case of Aroeste, the taxpayer had relocated to Mexico and made a treaty election to be treated as a non-resident alien. Therefore, the taxpayer did not file an FBAR because they claimed they were not required to — because they claimed, as a non-US person, they were not required to file the FBAR. The IRS disagreed and took the position that the taxpayer was still required to file the FBAR and penalize the taxpayer. Ultimately, the court sided with the taxpayer, and the IRS abandoned its appeal on the issue.

What does this mean for U.S. Taxpayers?

Some taxpayers who live in a foreign country and qualify for a treaty election to be treated as a non-resident alien the tax purposes may take the position that they are not required to file the FBAR. It is important to note, that the IRS can still challenge the position and currently, there is only a single District Court case on the matter and no Court of Appeals rulings on the issue of whether making a treaty election to be treated as a non-resident alien for tax purposes means the taxpayer does not have to file the FBAR. Based on the penalties the IRS can issue for FBAR non-compliance, Taxpayers should be careful and be sure they understand the risks.

Late Filing Penalties May be Reduced or Avoided

For Taxpayers who did not timely file their FBAR and/or other international information-related reporting forms, the IRS has developed many different offshore amnesty programs to assist Taxpayers with safely getting into compliance. These programs may reduce or even eliminate international reporting penalties.

Late-Filing Disclosure Options

If a Taxpayer is out of compliance, there are various international offshore tax amnesty programs that they can apply to safely get into compliance. Depending on the specific facts and circumstances of the Taxpayers’ noncompliance, they can determine which program will work best for them.

*Below please find separate links to each program with extensive details about the reporting requirements and examples.

Streamlined Filing Compliance Procedures (SFCP, Non-Willful)

The Streamlined Filing Compliance Procedures is one of the most common programs used by Taxpayers who are non-willful and qualify for either the Streamlined Domestic Offshore Procedures or Streamlined Foreign Offshore Procedures.

Streamlined Domestic Offshore Procedures (SDOP, Non-Willful)

Taxpayers who are considered U.S. residents and file timely tax returns each year but fail to report foreign income and/or assets may consider the Streamlined Domestic Offshore Procedures.

Streamlined Foreign Offshore Procedures (SFOP, Non-Willful)

Taxpayers who are foreign residents may consider the Streamlined Foreign Offshore Procedures which is typically the preferred program of the two streamlined procedures. That is because under this program Taxpayers can file original returns and the 5% title 26 miscellaneous offshore penalty is waived.

Delinquent FBAR Submission Procedures (DFSP, Non-Willful/Reasonable Cause)

Taxpayers who only missed the FBAR reporting and do not have any unreported income or other international information reporting forms to file may consider the Delinquent FBAR Submission Procedures — which may include a penalty waiver.

Delinquent International Information Returns Submission Procedures (DIIRSP, Reasonable Cause)

Taxpayers who have undisclosed foreign accounts and assets beyond just the FBAR — but have no unreported income — may consider the Delinquent International Information Return Submission Procedures. Before November 2020, the IRS was more inclined to issue a penalty waiver, but since then this type of delinquency procedure submission has morphed into a reasonable cause request to waive or abate penalties.

IRS Voluntary Disclosure Procedures (VDP, Willful)

For Taxpayers who are considered willful, the IRS offers a separate program referred to as the IRS Voluntary Disclosure Program (VDP). This program is used by Taxpayers to disclose both unreported domestic and offshore assets and income (before 2018, there was a separate program that only dealt with offshore assets (OVDP), but that program merged back into the traditional voluntary disclosure program (VDP).

Quiet Disclosure

Quiet disclosure is when a Taxpayer submits information to the IRS regarding the undisclosed foreign accounts, assets, and income but they do not go through one of the approved offshore disclosure programs. This is illegal and the IRS has indicated they have every intention of investigating Taxpayers who they discover intentionally sought to file delinquent forms to avoid the penalty instead of submitting to one of the approved methods identified above.

Current Year vs. Prior Year Non-Compliance

Once a Taxpayer missed the tax and reporting (such as FBAR and FATCA) requirements for prior years, they will want to be careful before submitting their information to the IRS in the current year. That is because they may risk making a quiet disclosure if they just begin filing forward in the current year and/or mass filing previous year forms without doing so under one of the approved IRS offshore submission procedures. Before filing prior untimely foreign reporting forms, Taxpayers should consider speaking with a Board-Certified Tax Law Specialist who specializes exclusively in these types of offshore disclosure matters.

Avoid False Offshore Disclosure Submissions (Willful vs Non-Willful)

In recent years, the IRS has increased the level of scrutiny for certain streamlined procedure submissions. When a person is non-willful, they have an excellent chance of making a successful submission to Streamlined Procedures. If they are willful, they would submit to the IRS Voluntary Disclosure Program instead. But, if a willful Taxpayer submits an intentionally false narrative under the Streamlined Procedures (and gets caught), they may become subject to significant fines and penalties. 

Need Help Finding an Experienced Offshore Tax Attorney?

When it comes to hiring an experienced international tax attorney to represent you for unreported foreign and offshore account reporting, it can become overwhelming for Taxpayers trying to trek through all the false information and nonsense they will find in their online research. There are only a handful of attorneys worldwide who are Board-Certified Tax Specialists and who specialize exclusively in offshore disclosure and international tax amnesty reporting. 

*This resource may help Taxpayers seeking to hire offshore tax counsel: How to Hire an Offshore Disclosure Lawyer.

Golding & Golding: About Our International Tax Law Firm

Golding & Golding specializes exclusively in international tax, specifically IRS offshore disclosure. 

Contact our firm today for assistance.